The Economist had a chilling article this week on the threat that climate change poses to the insurance industry. The article cited a host of statistics indicating that the risk of catastrophic climate events has risen much faster than the insurance industry anticipated and has put extreme strain on its financial reserves.
Among other things, the article noted that:
- Very costly disasters are becoming more common. Between 1980 and 2015, there were, on average, five events causing over $1bn (inflation-adjusted) in damage a year in America. Between 2016 and 2018, there were, on average, 16.
- Average annual losses from catastrophic events have risen an inflation-adjusted 20 times since the 1970s.
- Insurance rates are rising faster than inflation – US property insurance rates rose 10% last year, while Pacific rates rose 18%.
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In other words, climate change is making insurance much harder – and more expensive – to do.
The consequences of climate change are well documented, and include rising sea levels, more-aggressive storms, increased droughts, vastly more serious wildfires, record storm surge, and much more. All these changes in the climate increase the risk of extreme events and the damage done to health and property when extreme events occur.
For insurers, this means that the risks they insure against are becoming bigger and more unpredictable – in part because they use historical events to model risks, but climate change means that the future is not like the past.
To manage all this, insurers must raise their premiums significantly. In some cases, insurance could become prohibitively expensive, to the point where certain regions or risks become uninsurable in practical terms. For example, fire insurance premiums in California are likely to rise 70-80% this year, putting fire insurance out of reach for many. If the wildfires continue and the losses mount, insurance companies may stop offering fire cover altogether.
The Economist article got me thinking about South Africa and the risk that many parts of the country or the economy could one day become uninsurable. It’s not an idle fear.
SA had its worst-ever year for catastrophic losses in 2017, with over R5bn paid for losses incurred due to natural disasters. A couple more years like that and who knows where we’ll be? Insurers are already being forced to re-rate the risk of climate-struck areas like the Southern Cape and there are few workable solutions to the realities of fundamental changes in the climate.
Consider the example of South African crop insurance. South African farmers can buy insurance that pays out if something goes wrong with their crops. After the brutal drought in the Western Cape, however, the chairperson of Grain SA reported that crop insurance had become “exceedingly expensive” – so much so that many farmers could no longer afford it. As a consequence, the industry is now working on a state subsidised crop insurance scheme.
In practical terms, this means that the risk of crop failure, especially due to drought in arid SA, has become so great that the insurance and farming industries can no longer shoulder the risk alone. Instead, they want the risk to be spread out across taxpayers.
This is good for the farmers, but perhaps not great for everyone else – as a taxpayer, you would be on the hook if Farmer Joe’s mielie crop fails because he is farming in a place that is fundamentally too dry for mielies. This state subsidised insurance model cannot be applied to all SA’s escalating climate risks. We can’t afford it.
Or, to step back from the climate issue for a minute, consider what has been happening at the South African Special Risk Insurance Association (Sasria), which insures against special risks like civil disorder, terrorism, and strikes.
The risk of these things has escalated dramatically in recent years, thanks to service delivery problems, poverty, labour issues, and indeed, water shortages and drought. This is putting pressure on Sasria’s ability to insure against them, which means higher premiums or a lack of insurance options.
Civil unrest and climate change are not unrelated – one can easily imagine droughts pushing up food prices and leading to riots and unrest. For South African insurance companies, covering the losses caused by these inter-related risks is an expensive and increasingly uncertain business.
Insurers get this. They are actively rerating communities in SA and warning that people who build houses in flood plains won’t be able to get flood coverage. This process will only accelerate as the earth gets hotter and SA gets either drier (droughts) or far too wet (floods).
